Crown lawyers in the fraud trial of former Nortel Networks executives allege letters between the fallen telecom equipment maker’s top brass show they knew what they were doing was wrong.

Nortel Networks Corp.’s books were so “polluted” by late 2003 that former controller Michael Gollogly offered to return a bonus linked to profits that were ultimately restated, the Crown alleged Wednesday.

During day three of a trial on fraud charges against Gollogly, ex-Nortel chief executive Frank Dunn and former chief financial office Douglas Beatty, Crown prosecutor Robert Hubbard displayed a letter he said Gollogly addressed to Nortel’s board and audit committee chairs, but which was not received.

In the purported draft letter Gollogly questioned the quality of Dunn’s third quarter earnings forecast, said his continuing position as controller may be “untenable” and offered to repay his portion of a return-to-profit bonus, though Hubbard said he never did so.

Nortel recorded a third-quarter profit that met the company’s forecast but the equipment maker also said it would restate its financial results for 2000, 2001, 2002 and the first two quarters of 2003 as part of a review of its assets and liabilities.

Nortel ultimately restated 2003 results to show income reported in the first half as a net loss.

The chief prosecutor also referred to memos to Beatty and Gollogly from Nortel assistant controller Karen Sledge in October 2003, who said the company’s books were polluted after at least $127 million (U.S.) in excess accrual reserves had been improperly booked to produce the 2003 quarterly profit Dunn had promised in 2002.

Hubbard said the effect of the arbitrary use of balance sheet accruals threw Nortel’s income statement badly out of whack.

At the time of a Nortel press release in October 2003 estimating third quarter results, Nortel’s books showed a profit according to generally accepted accounting principles of more than $800 million, the prosecutor said.

Hubbard cited memos from Nortel staff that he said indicate the accused knew that only improper use of accounting reserves would produce a profit and trigger bonuses and restricted share unit payouts.

Hubbard said Dunn promised a return to sustained profitability in a 2002 press release that produced a rally in Nortel stock, which was in danger of being delisted in New York after a decline to just above $1 per share after the speculative technology bubble burst in 2000.

He said the stock rallied until Toronto-based Nortel announced a comprehensive review of its accounting procedures after the quarterly 2003 profit that led to a $1 billion earnings restatement, the first of four accounting revisions over as many years.

Hubbard said Gollogly characterized the scrutiny of Nortel’s third quarter results in 2003 amid the accounting review as a “joke,” adding that internal Nortel documents show his instructions to staff were to get the restatement out of the way.

Hubbard, who concluded a submission that began Monday, said the Crown intends to prove the accused falsified Nortel’s books, records and financial statements between 2000 and 2004 to fabricate profits and trigger special senior executive bonuses that totaled more than $13 million (Canadian) — including $7.8 million to Dunn.

It says in so doing they defrauded Nortel and the public. Nortel demanded return of the bonus payments after if fired the three accused and seven other employees in 2004.

Shares in Nortel fell 30.6 per cent the day after the company announced the firings and said it would need to restate results again.

The trial follows fraud charges laid against the three men by the RCMP in 2008 that have not been proven in court. The accused have pleaded not guilty.

Dunn’s lawyer David Porter is expected to begin opening arguments Thursday morning in submissions intended to encompass all three of the accused. The trail will recess for a week starting Monday.

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